UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission file number 1-8514

Smith International, Inc.

(Exact name of Registrant as specified in its charter)

Delaware (State or other jurisdiction of incorporation or organization)		95-3822631 (I.R.S. Employer Identification No.)
1310 Rankin Road Houston, Texas (Address of principal executive offices)		77073 (Zip Code)

(281) 443-3370
(Registrant’s telephone number, including area code)

Not Applicable
(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act (Check one):

Large accelerated filer þ		Accelerated filer o		Non-accelerated filer o		Smaller reporting company o
				(Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ

There were 219,411,172 shares of common stock outstanding, net of treasury shares held, on November 5, 2009.

 

 

INDEX

		Page
		No.
PART I – FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS For the Three Months and Nine Months ended September 30, 2009 and 2008			3
CONSOLIDATED CONDENSED BALANCE SHEETS As of September 30, 2009 and December 31, 2008			4
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS For the Nine Months ended September 30, 2009 and 2008			5
CONSOLIDATED CONDENSED STATEMENTS OF STOCKHOLDERS’ EQUITY AND COMPREHENSIVE INCOME For the Nine Months ended September 30, 2009 and 2008			6
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS			7
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations			17
Item 3. Quantitative and Qualitative Disclosures about Market Risk			27
Item 4. Controls and Procedures			27
PART II – OTHER INFORMATION
Item 1A. Risk Factors			27
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds			29
Item 6. Exhibits			30
SIGNATURES			31
EXHIBIT INDEX			32
EX-31.1
EX-31.2
EX-32.1
EX-101 INSTANCE DOCUMENT
EX-101 SCHEMA DOCUMENT
EX-101 CALCULATION LINKBASE DOCUMENT
EX-101 LABELS LINKBASE DOCUMENT
EX-101 PRESENTATION LINKBASE DOCUMENT
EX-101 DEFINITION LINKBASE DOCUMENT

PART I – FINANCIAL INFORMATION

Item 1. Financial Statements

SMITH INTERNATIONAL, INC.

(In thousands, except per share data)

(Unaudited)

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2009				2008				2009				2008
Revenues:
Oilfield operations		$	1,500,486			$	2,088,442			$	4,875,706			$	5,769,939
Distribution operations			378,538				760,869				1,359,086				1,944,528
Total revenues			1,879,024				2,849,311				6,234,792				7,714,467
Costs and expenses:
Cost of oilfield revenues			1,037,671				1,317,288				3,319,506				3,615,156
Cost of distribution revenues			341,613				625,225				1,194,214				1,603,577
Selling, general and administrative expenses			398,441				463,717				1,244,791				1,284,079
Total costs and expenses			1,777,725				2,406,230				5,758,511				6,502,812
Operating income			101,299				443,081				476,281				1,211,655
Interest expense			40,479				24,169				110,806				56,714
Interest income			(581	)			(732	)			(1,668	)			(2,380	)
Income before income taxes			61,401				419,644				367,143				1,157,321
Income tax provision			17,673				136,765				115,948				375,611
Net income			43,728				282,879				251,195				781,710
Noncontrolling interests in net income of subsidiaries			36,693				73,036				122,839				213,603
Net income attributable to Smith		$	7,035			$	209,843			$	128,356			$	568,107
Earnings per share attributable to Smith:
Basic		$	0.03			$	1.00			$	0.59			$	2.79
Diluted			0.03				1.00				0.58				2.77
Weighted average shares outstanding:
Basic			219,337				208,857				219,282				203,554
Diluted			220,420				210,216				220,071				204,862

The accompanying notes are an integral part of these consolidated condensed financial statements.

SMITH INTERNATIONAL, INC.

(In thousands, except par value data)

(Unaudited)

		September 30,				December 31,
		2009				2008
Assets
Current Assets:
Cash and cash equivalents		$	281,497			$	162,508
Receivables, net			1,726,205				2,253,477
Inventories, net			1,936,398				2,367,166
Deferred tax assets, net			63,016				81,834
Prepaid expenses and other			164,051				221,399
Total current assets			4,171,167				5,086,384
Property, plant and equipment, net			1,878,773				1,844,036
Goodwill			3,039,950				3,016,425
Other intangible assets, net			601,852				637,450
Other assets			279,141				231,929
Total assets		$	9,970,883			$	10,816,224
Liabilities and Stockholders’ Equity
Current Liabilities:
Short-term borrowings and current portion of long-term debt		$	322,874			$	1,366,296
Accounts payable			532,613				979,000
Accrued payroll costs			147,547				178,040
Income taxes payable			14,801				92,922
Other			207,042				317,174
Total current liabilities			1,224,877				2,933,432
Long-term debt			2,049,410				1,440,525
Deferred tax liabilities			472,025				428,986
Other long-term liabilities			153,317				152,972
Commitments and contingencies (Note 13)
Stockholders’ Equity:
Preferred stock, $1 par value; 5,000 shares authorized; no shares issued or outstanding in 2009 or 2008			—				—
Common stock, $1 par value; 500,000 shares authorized; 237,000 shares issued in 2009 (236,726 shares issued in 2008)			237,000				236,726
Additional paid-in capital			2,010,935				1,975,102
Retained earnings			2,935,140				2,885,792
Accumulated other comprehensive income (loss)			17,935				(73,833	)
Less – Treasury securities, at cost; 17,663 common shares in 2009 (17,616 common shares in 2008)			(475,502	)			(474,448	)
Smith stockholders’ equity			4,725,508				4,549,339
Noncontrolling interests in subsidiaries			1,345,746				1,310,970
Total stockholders’ equity			6,071,254				5,860,309
Total liabilities and stockholders’ equity		$	9,970,883			$	10,816,224

The accompanying notes are an integral part of these consolidated condensed financial statements.

SMITH INTERNATIONAL, INC.

(In thousands)

(Unaudited)

		Nine Months Ended
		September 30,
		2009				2008
Cash flows from operating activities:
Net income		$	251,195			$	781,710
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization			273,106				173,748
Deferred income tax provision			353				10,299
LIFO inventory reserves			(40,274	)			69,213
Share-based compensation expense			35,136				30,663
Provision for losses on receivables			9,759				4,198
Foreign currency transaction (gain) loss			(5,192	)			44
Gain on disposal of property, plant and equipment			(30,163	)			(23,897	)
Equity earnings, net of dividends received			(7,271	)			(12,879	)
Changes in operating assets and liabilities:
Receivables			554,561				(367,779	)
Inventories			514,273				(517,971	)
Accounts payable			(455,573	)			267,185
Other current assets and liabilities			(138,365	)			99,253
Other non-current assets and liabilities			(27,646	)			(34,792	)
Net cash provided by operating activities			933,899				478,995
Cash flows from investing activities:
Purchases of property, plant and equipment			(254,919	)			(267,824	)
Proceeds from disposal of property, plant and equipment			54,046				45,083
Proceeds from sale of operations			65,019				—
Acquisition-related payments, net of cash acquired			(15,093	)			(1,667,352	)
Net cash used in investing activities			(150,947	)			(1,890,093	)
Cash flows from financing activities:
Proceeds from issuance of long-term debt			1,000,000				1,027,847
Principal payments of long-term debt			(388,298	)			(448,353	)
Principal payment of short-term bridge loan			(1,000,000	)			—
Net change in short-term borrowings			(44,919	)			968,340
Debt issuance costs			(14,257	)			—
Settlement of interest rate derivative contract			(33,383	)			—
Payment of common stock dividends			(78,916	)			(68,288	)
Distributions to noncontrolling joint venture partner			(106,000	)			(31,587	)
Purchases of common stock under Repurchase Program			—				(13,084	)
Other financing activities			(2,464	)			10,293
Net cash provided by (used in) financing activities			(668,237	)			1,445,168
Effect of exchange rate changes on cash			4,274				(236	)
Increase in cash and cash equivalents			118,989				33,834
Cash and cash equivalents at beginning of period			162,508				158,267
Cash and cash equivalents at end of period		$	281,497			$	192,101
Supplemental disclosures of cash flow information:
Cash paid for interest		$	111,163			$	50,349
Cash paid for income taxes			217,336				324,940
Supplemental disclosures of non-cash transactions:
Stock issued for the W-H Energy transaction		$	—			$	1,403,616

The accompanying notes are an integral part of these consolidated condensed financial statements.

SMITH INTERNATIONAL, INC.

(In thousands)

														Accumulated
						Additional								Other								Smith				Noncontrolling				Total
		Common				Paid-in				Retained				Comprehensive				Treasury				Stockholders’				Interests in				Stockholders’
		Stock				Capital				Earnings				Income (Loss)				Securities				Equity				Subsidiaries				Equity
Balance, December 31, 2008		$	236,726			$	1,975,102			$	2,885,792			$	(73,833	)		$	(474,448	)		$	4,549,339			$	1,310,970			$	5,860,309
Net income			—				—				128,356				—				—				128,356				122,839				251,195
Changes in fair value of derivatives, net of tax			—				—				—				39,940				—				39,940				—				39,940
Currency translation adjustments and other, net of tax			—				—				—				51,828				—				51,828				26,345				78,173
Comprehensive income			—				—				128,356				91,768				—				220,124				149,184				369,308
Common stock dividends declared			—				—				(79,008	)			—				—				(79,008	)			—				(79,008	)
Distributions to noncontrolling joint venture partner			—				—				—				—				—				—				(106,000	)			(106,000	)
Long-term incentive compensation activity			274				35,833				—				—				(1,054	)			35,053				—				35,053
Other			—				—				—				—				—				—				(8,408	)			(8,408	)
Balance, September 30, 2009		$	237,000			$	2,010,935			$	2,935,140			$	17,935			$	(475,502	)		$	4,725,508			$	1,345,746			$	6,071,254

														Accumulated
						Additional								Other								Smith				Noncontrolling				Total
		Common				Paid-in				Retained				Comprehensive				Treasury				Stockholders’				Interests in				Stockholders’
		Stock				Capital				Earnings				Income (Loss)				Securities				Equity				Subsidiaries				Equity
Balance, December 31, 2007		$	217,586			$	533,429			$	2,219,224			$	67,840			$	(443,182	)		$	2,594,897			$	1,130,773			$	3,725,670
Net income			—				—				568,107				—				—				568,107				213,603				781,710
Changes in fair value of derivatives, net of tax			—				—				—				(19,103	)			—				(19,103	)			—				(19,103	)
Currency translation adjustments and other, net of tax			—				—				—				(14,683	)			—				(14,683	)			(8,153	)			(22,836	)
Comprehensive income			—				—				568,107				(33,786	)			—				534,321				205,450				739,771
Shares issued in W-H acquisition			17,781				1,385,836				—				—				—				1,403,617				—				1,403,617
Purchases of common stock under Repurchase Program			—				—				—				—				(13,084	)			(13,084	)			—				(13,084	)
Common stock dividends declared			—				—				(74,491	)			—				—				(74,491	)			—				(74,491	)
Distributions to noncontrolling joint venture partner			—				—				—				—				—				—				(31,587	)			(31,587	)
Long-term incentive compensation activity			649				48,496				—				—				(6,681	)			42,464				—				42,464
Other			—				—				—				—				—				—				(8,834	)			(8,834	)
Balance, September 30, 2008		$	236,016			$	1,967,761			$	2,712,840			$	34,054			$	(462,947	)		$	4,487,724			$	1,295,802			$	5,783,526

The accompanying notes are an integral part of these consolidated condensed financial statements.

SMITH INTERNATIONAL, INC.

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(All dollar amounts are expressed in thousands, unless otherwise noted)
(Unaudited)

1. Significant Accounting Policies

Basis of Presentation

The accompanying unaudited consolidated condensed financial statements of Smith International, Inc. and subsidiaries (“Smith” or the “Company”) were prepared in accordance with U.S. generally accepted accounting principles and applicable rules and regulations of the Securities and Exchange Commission (the “Commission” or “SEC”) pertaining to interim financial information. These interim financial statements do not include all information or footnote disclosures required by generally accepted accounting principles for complete financial statements and, therefore, should be read in conjunction with the audited financial statements and accompanying notes included in the Company’s 2008 Annual Report on Form 10-K and other current filings with the Commission. All adjustments that are, in the opinion of management, of a normal and recurring nature and are necessary for a fair presentation of the interim financial statements have been included.

Preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosed amounts of contingent assets and liabilities and the reported amounts of revenues and expenses. If the underlying estimates and assumptions, upon which the financial statements are based, change in future periods, actual amounts may differ from those included in the accompanying consolidated condensed financial statements.

Management is also required to consider material events that occur after the date, but prior to the issuance, of the financial statements and evaluate whether such events require modification to the reported results or footnote disclosures. Our subsequent events review has been conducted through November 9, 2009, immediately prior to the filing of the financial statements with the Commission.

Management believes the consolidated condensed financial statements present fairly the financial position, results of operations and cash flows of the Company as of the dates indicated. The results of operations for the interim period presented may not be indicative of results which may be reported on a fiscal year basis.

Recently Adopted Accounting Pronouncements

From time to time, new accounting pronouncements are issued by the Financial Accounting Standards Board (“FASB”). The following standards were adopted by the Company on the specified effective date.

In June 2009, the FASB established that the Accounting Standards Codification (the “Codification” or “ASC”) will be the single official source of authoritative U.S. generally accepted accounting principles, except for rules and interpretive releases of the Commission, which are sources of authoritative guidance for SEC registrants. During the third quarter 2009, the Company adopted and included the references required by the Codification. There are no other changes to the Company’s financial statements as a result of implementing the Codification.

During the first quarter of 2009, the Company adopted ASC 805 (formerly SFAS No. 141(R), “Business Combinations”) which revises the accounting and disclosure requirements for acquisition transactions. The standard differs from the previous standard in that it requires the Company to expense professional fees and other transaction-related costs as incurred instead of capitalizing these costs as purchase price consideration. Additionally, the Company will be required to estimate contingent assets, liabilities and transaction-related consideration as of the purchase date, with future changes in the underlying estimates recognized in the statement of operations. Finally, the standard requires the Company to reflect any adjustments to deferred tax asset valuation allowances and income tax uncertainties associated with acquisitions as income tax expense rather than an adjustment to goodwill.

Effective January 1, 2009, the Company implemented ASC 810 (formerly SFAS No. 160 “Noncontrolling Interests in Consolidated Financial Statements, an Amendment of ARB No. 51”) which modifies the accounting and disclosure requirements for subsidiaries, which are not wholly-owned. In accordance with the provisions of the standard, the Company has reclassified the noncontrolling interest previously reflected as a long-term liability and included the amount as a component of stockholders’ equity in the accompanying consolidated condensed balance sheets. Additionally, the Company has presented the net income attributable to the Company and the noncontrolling ownership interests separately in the accompanying consolidated condensed statements of operations.

During the first quarter of 2009, the Company adopted ASC 815 (formerly SFAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities, an Amendment of FASB Statement No. 133”) which requires enhanced disclosure about derivative instruments. The standard requires the inclusion of tabular information reflecting the impact of derivative financial instruments on the Company’s consolidated financial position and results of operations.

During the second quarter of 2009, the Company adopted ASC 825 (formerly FASB Staff Position No. 107-1) and ASC 270 (formerly Accounting Principles Board Opinion No. 28-1, “Interim Disclosure about Fair Value of Financial Instruments”) which requires additional fair value disclosure with respect to financial instruments in the Company’s interim financial statements.

During the second quarter of 2009, the Company adopted the provisions of ASC 855 (formerly SFAS No. 165, “Subsequent Events”) which requires disclosure with respect to the Company’s subsequent events review, including the date through which such review was completed.

Accounting Pronouncements Not Yet Effective

During the second quarter of 2009, the FASB issued SFAS No. 167, “Amendments to FASB Interpretation No. 46(R),” which amends previous guidance on the consolidation of variable interest entities (“VIE”). The standard modifies how an enterprise determines the primary beneficiary that would consolidate the VIE from a quantitative risks and rewards calculation to a qualitative approach. Such assessment will be required to be performed on a continuous basis and is influenced by, among other things, an enterprise’s ability to direct the most significant activities that influence the VIE’s operating performance. The Company is currently evaluating the new standard, which will be adopted on January 1, 2010.

In October 2009, the FASB issued an update to existing guidance with respect to revenue recognition for arrangements with multiple deliverables. This update will allow allocation of consideration received for qualified separate deliverables based on estimated selling price for both delivered and undelivered items when vendor-specific or third-party evidence is not available. Additionally, disclosure of the nature of multiple element arrangements, the general timing of their delivery, and significant factors and estimates used to determine estimated selling prices are required. The Company is currently evaluating this update, which will be adopted for new revenue arrangements entered into or materially modified beginning January 1, 2011.

Management believes the impact of other recently issued standards, which are not yet effective, will not have a material impact on the Company’s consolidated financial position, results of operations or cash flows upon adoption.

2. Employee Severance and Other Costs

Due to the significant deterioration in North American drilling activity, the Company has undertaken a number of cost reduction initiatives during the first nine months of 2009. These measures included personnel reductions and, to a lesser extent, the closing of certain manufacturing and production facilities. The Company has reduced its global workforce by 13 percent from December 31, 2008, primarily associated with a 29 percent reduction in U.S. personnel levels. In connection with these activities, the Company incurred costs of approximately $13.0 million and $60.8 million, respectively, for the three-month and nine-month periods ended September 30, 2009.

3. Acquisitions and Dispositions

Acquisitions

From time to time, the Company enters into transactions involving the purchase of a full or partial ownership interest in complementary business operations. No material acquisitions were completed during the first nine months of 2009.

On August 25, 2008, the Company completed the acquisition of W-H Energy Services, Inc. (“W-H”). The transaction has been recorded using the purchase method of accounting and, accordingly, the acquired operations have been included in the results of operations since the closing date. The following unaudited pro forma supplemental information presents consolidated results of operations as if the W-H acquisition had occurred on January 1, 2008. The unaudited pro forma data is based on historical information and does not include estimated cost savings; therefore, it does not purport to be indicative of the results of operations had the combination been in effect at the date indicated or of future results for the combined entities (in thousands, except per share amounts):

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2009				2008				2009				2008
Revenues		$	1,879,024			$	3,216,578			$	6,234,792			$	8,729,639
Net income attributable to Smith		$	7,035			$	237,304			$	128,356			$	640,258
Earnings per share attributable to Smith:
Basic		$	0.03			$	1.07			$	0.59			$	2.89
Diluted		$	0.03			$	1.07			$	0.58			$	2.88

Dispositions

During the first nine months of 2009, the Company disposed of certain non-core operations acquired in connection with the W-H transaction. From these sales, the Company received cash proceeds of $65.0 million and is entitled to future consideration in the event financial metrics established under earn-out arrangements are met. The accompanying consolidated condensed financial statements reflect no gain or loss associated with the sale of these operations.

4. Earnings Per Share

Basic earnings per share (“EPS”) is computed using the weighted average number of common shares outstanding during the period. Diluted EPS gives effect to the potential dilution of earnings that could have occurred if additional shares were issued for stock option and restricted stock awards under the treasury stock method. For each of the periods presented, an immaterial number of outstanding stock-based awards were excluded from the computation of diluted EPS because they were anti-dilutive. The following schedule reconciles the income and shares used in the basic and diluted EPS computations
(in thousands, except per share data):

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2009				2008				2009				2008
Net income attributable to Smith		$	7,035			$	209,843			$	128,356			$	568,107
Weighted average number of common shares outstanding			219,337				208,857				219,282				203,554
Basic EPS		$	0.03			$	1.00			$	0.59			$	2.79
Net income attributable to Smith		$	7,035			$	209,843			$	128,356			$	568,107
Weighted average number of common shares outstanding			219,337				208,857				219,282				203,554
Dilutive effect of stock options and restricted stock units			1,083				1,359				789				1,308
			220,420				210,216				220,071				204,862
Diluted EPS		$	0.03			$	1.00			$	0.58			$	2.77

5. Inventories

Inventories are stated at the lower of cost or market. Cost is determined using the average cost method for the majority of the Company’s inventories; however, a portion of the Company’s U.S.-based inventories are valued utilizing the last-in, first-out (“LIFO”) method. Inventory costs, consisting of materials, labor and factory overhead, are as follows:

		September 30,				December 31,
		2009				2008
Raw materials		$	181,174			$	190,790
Work-in-process			177,856				202,019
Finished goods			1,748,940				2,186,203
			2,107,970				2,579,012
Reserves to state certain U.S. inventories (FIFO cost of $804,487 and $1,044,345 in 2009 and 2008, respectively) on a LIFO basis			(171,572	)			(211,846	)
		$	1,936,398			$	2,367,166

6. Property, Plant and Equipment

Property, plant and equipment consist of the following:

		September 30,				December 31,
		2009				2008
Land and improvements		$	83,390			$	77,463
Buildings			343,145				322,569
Machinery and equipment			1,145,408				1,048,821
Rental tools			1,399,702				1,292,796
			2,971,645				2,741,649
Less — Accumulated depreciation			(1,092,872	)			(897,613	)
		$	1,878,773			$	1,844,036

7. Goodwill and Other Intangible Assets

Goodwill

The following table presents goodwill on a segment basis as of the dates indicated as well as changes in the account during the period shown.

						Smith
		M-I SWACO				Oilfield				Distribution				Consolidated
Balance as of December 31, 2008		$	714,663			$	2,250,675			$	51,087			$	3,016,425
Purchase price and other adjustments			825				22,700				—				23,525
Transfer between segments			10,320				(10,320	)			—				—
Balance as of September 30, 2009		$	725,808			$	2,263,055			$	51,087			$	3,039,950

The Company finalized purchase price allocations related to the acquisitions of W-H and certain other operations during the nine months ended September 30, 2009 based on additional data concerning final asset and liability valuations as well as the settlement of certain earn-out arrangements, which resulted in a net adjustment to goodwill of $23.5 million.

Other Intangible Assets

The components of other intangible assets are as follows:

		September 30, 2009												December 31, 2008
		Gross Carrying				Accumulated								Gross Carrying				Accumulated
		Amount				Amortization				Net				Amount				Amortization				Net
Patents		$	428,604			$	75,445			$	353,159			$	426,772			$	52,175			$	374,597
Trademarks(a)			205,031				4,233				200,798				205,031				3,764				201,267
License agreements			33,857				19,686				14,171				32,416				17,311				15,105
Non-compete agreements			37,928				27,211				10,717				37,928				23,122				14,806
Customer relationships and contracts			58,438				35,431				23,007				58,438				26,763				31,675
		$	763,858			$	162,006			$	601,852			$	760,585			$	123,135			$	637,450

Intangible amortization expense totaled $13.0 million and $9.8 million for the three-month periods ended September 30, 2009 and 2008, respectively, and $38.9 million and $23.1 million for the nine-month periods ended September 30, 2009 and 2008, respectively. The weighted average life for other intangible assets subject to amortization, which excludes certain indefinite-lived trademarks, approximates 13 years. Intangible amortization expense is expected to approximate $51 million for fiscal year 2009, $48 million for fiscal year 2010 and is anticipated to range between $32 million and $42 million per year for the 2011 — 2014 fiscal years.

8. Debt

The following summarizes the Company’s outstanding debt:

		September 30,				December 31,
		2009				2008
Current:
Short-term borrowings		$	51,524			$	1,096,443
Current portion of long-term debt			271,350				269,853
Short-term borrowings and current portion of long-term debt		$	322,874			$	1,366,296
Long-Term:
Notes, net of unamortized discounts		$	1,493,539			$	494,638
Revolving credit facilities			—				260,000
Term loans			827,221				955,740
			2,320,760				1,710,378
Less — Current portion of long-term debt			(271,350	)			(269,853	)
Long-term debt		$	2,049,410			$	1,440,525

During the first quarter of 2009, the Company completed a public offering of $300.0 million five-year and $700.0 million ten-year Senior Notes issued under an existing Indenture. Net proceeds of $991.1 million were received in connection with the offering and were used to repay outstanding indebtedness under a $1.0 billion bridge loan facility expiring August 2009. The Senior Notes are unsecured obligations of the Company, carry a combined effective interest rate of 9.44 percent and require semi-annual interest payments.

In March 2009, the Company entered into a $525.0 million term loan facility with a syndicate of financial institutions (the “Lenders”) which remained undrawn as of June 30, 2009. During the third quarter of 2009, the Company allowed all commitments under the term loan facility to expire and entered into a new $375.0 million unsecured revolving credit facility with the Lenders. The revolving credit agreement allows for the election of interest at a base rate, or a Eurodollar rate of LIBOR plus 250 basis points, and requires the payment of a quarterly commitment

fee of 32.5 basis points on the unutilized portion of the facility. The credit agreement, which contains a debt-to-total capitalization limitation and other customary covenants, expires on July 23, 2010.

Principal payments of long-term debt for the twelve-month periods ending subsequent to September 30, 2010 are as follows:

2011		$	273,851
2012			491,132
2013			10,577
2014			299,312
Thereafter			974,538
		$	2,049,410

The Company was in compliance with its loan covenants under the various loan indentures, as amended, at September 30, 2009.

9. Accumulated Other Comprehensive Income (Loss)

Accumulated other comprehensive income (loss) in the accompanying consolidated condensed balance sheets consist of the following:

		September 30,				December 31,
		2009				2008
Currency translation adjustments		$	28,259			$	(24,235	)
Changes in unrealized fair value of derivatives, net			(2,549	)			(42,489	)
Pension liability adjustments			(7,775	)			(7,109	)
Accumulated other comprehensive income (loss)		$	17,935			$	(73,833	)

10. Financial Instruments

Foreign Exchange and Interest Rate Derivative Instruments

The nature of the Company’s business activities involves the management of various financial and market risks, including those related to changes in currency exchange rates and interest rates. In an effort to mitigate these risks, the Company enters into derivative financial instruments which are accounted for as fair value or cash flow hedges in accordance with ASC 815 (formerly SFAS No. 133 “Accounting for Derivative Instruments and Hedging Activities”). The Company does not enter into derivative instruments for speculative purposes.

For foreign exchange and interest rate derivative instruments that do not qualify as cash flow hedges, realized and unrealized gains and losses are recognized currently through earnings. Foreign exchange hedge contracts not designated as cash flow hedges with a notional amount of $122 million were outstanding at September 30, 2009.

For foreign exchange and interest rate derivative instruments that qualify as cash flow hedges, realized and unrealized gains and losses are deferred to accumulated other comprehensive income (loss) (“AOCI”) and recognized in the consolidated statement of operations when the hedged item affects earnings. As of September 30, 2009, the Company had one outstanding interest rate cash flow hedge contract with a notional amount of $74.0 million and no outstanding foreign exchange contracts accounted for as cash flow hedges.

The Company entered into three interest rate contracts and subsequent extensions during fiscal 2008 in anticipation of a planned public debt issuance. At December 31, 2008, unrealized mark-to-market losses of $59.8 million associated with these cash flow hedge transactions were deferred as a component of AOCI. Contract extensions expiring subsequent to December 31, 2008 did not qualify as cash flow hedge transactions resulting in the recognition of a $56.9 million mark-to-market gain in the first quarter of 2009.

The 2009 public debt transaction did not include a longer-tenor debt issuance as contemplated in the cash flow hedge transaction and a future transaction of this tenor is probable of not occurring. Accordingly, $59.3 million of the mark-to-market loss previously deferred as a component of AOCI was reclassified into earnings during the first quarter of 2009 offsetting the $56.9 million mark-to-market gain discussed above. Approximately $1.0 million of losses deferred in AOCI related to cash flow foreign exchange and interest rate derivative contracts, or $0.4 million net of taxes and noncontrolling interests, will be reclassified into earnings during the remainder of fiscal 2009.

In addition to the $2.4 million net mark-to-market interest rate derivative loss included in the first quarter of 2009, the Company has recognized $1.8 million and $12.7 million of derivative contract losses in the consolidated condensed statements of operations for the three-month and nine-month periods ended September 30, 2009. The following table provides required information with respect to the classification and loss amounts recognized in income as well as the derivative-related contract losses deferred in AOCI during the 2009 periods shown:

Derivatives Designated		Gain (Loss)								Location of		Gain (Loss)								Location of Gain (Loss)		Gain (Loss)
as Cash Flow Hedging		Recognized								Gain (Loss) Reclassified		Reclassified from								Recognized in Income		Recognized in Income
Instruments -		in AOCI								from AOCI to Income		AOCI to Income								(Ineffective)		(Ineffective)
		Three				Nine						Three				Nine						Three				Nine
		Months				Months						Months				Months						Months				Months
Interest rate contracts		$	(753	)		$	(1,707	)		Interest expense		$	(960	)		$	(2,327	)		Selling, general and administrative expenses		$	—			$	(76	)
Foreign exchange contracts			—				(1,061	)		Cost of oilfield revenues			(256	)			(2,572	)					—				—
Total		$	(753	)		$	(2,768	)				$	(1,216	)		$	(4,899	)				$	—			$	(76	)

		Location of Gain (Loss)		Gain (Loss)
Derivatives Not Designated -		Recognized in Income		Recognized in Income
				Three				Nine
				Months				Months
Foreign exchange contracts		Selling, general and administrative expenses		$	(539	)		$	(7,700	)

Fair Value Measurement

The fair value of outstanding foreign exchange derivative instruments is determined using composite pricing from published financial market sources whereas the fair value of the outstanding interest rate derivative instruments is determined by obtaining quoted prices in active markets for similar contracts. Both measurement methodologies are classified as Level Two tier under ASC 820 (formerly SFAS 157 “Fair Value Measurements”). The recorded fair value of derivative instruments at September 30, 2009 is as follows:

		Asset Derivatives						Liability Derivatives
		Classification		Fair Value				Classification		Fair Value
Derivatives Designated as Hedging Instruments —
Interest rate contracts				$	—			Other current liabilities		$	(5,204	)
Foreign exchange contracts		Prepaid expenses and other			—						—
Derivatives Not Designated as Hedging Instruments —
Foreign exchange contracts		Prepaid expenses and other			7,134			Other current liabilities			(7,196	)
Total				$	7,134					$	(12,400	)

The fair value of outstanding long-term debt instruments is determined using quoted prices for similar debt instruments, which is classified as a Level Two tier measurement methodology under ASC 820. At September 30, 2009, the fair value of long-term debt instruments approximated $2.57 billion and the recorded value totaled $2.32 billion. The fair and recorded values of long-term debt instruments totaled $1.63 billion and $1.71 billion, respectively, at December 31, 2008.

The fair value of the remaining financial instruments, including cash and cash equivalents, receivables, payables and short-term borrowings, approximates the carrying value due to the nature of these instruments.

11. Long-Term Incentive Compensation

As of September 30, 2009, the Company had outstanding restricted stock units and stock options granted under the Amended and Restated 1989 Long-Term Incentive Compensation Plan (the “LTIC Plan”). As of September 30, 2009, approximately 1.9 million shares were authorized for future issuance pursuant to the LTIC Plan.

Restricted Stock

The restricted stock program consists of a combination of performance-based restricted stock units (“performance-based units”) and time-based restricted stock units (“time-based units”). The number of performance-based units issued under the program, which can range from zero to 130 percent of the target units granted, is solely dependent upon financial metrics achieved by the Company in the fiscal year subsequent to the award. Activity under the Company’s restricted stock program for the nine-month period ended September 30, 2009 is presented below (in thousands, except per unit data):

		Time-Based Awards								Performance-Based Awards								Total
		No. of				Fair				No. of				Fair				Restricted
		Units				Value(a)				Units(b)				Value(a)				Stock Units
Outstanding at December 31, 2008			2,599			$	32.57				1,639			$	31.60				4,238
Granted			168				22.00				—				—				168
Forfeited			(216	)			34.53				(48	)			34.89				(264	)
Vested			(60	)			58.63				—				—				(60	)
Outstanding at September 30, 2009			2,491			$	31.06				1,591			$	35.77				4,082

Restrictions on approximately 1.1 million restricted stock units outstanding at September 30, 2009 are expected to lapse and issue during the fourth quarter of 2009.

Stock Options

Activity under the Company’s stock option program for the nine-month period ended September 30, 2009 is presented below (in thousands, except per share data):

		Shares				Weighted				Weighted Average
		Under				Average				Remaining				Aggregate
		Option				Exercise Price				Contractual Life				Intrinsic Value
Outstanding at December 31, 2008			1,150			$	19.58
Forfeited			(9	)			23.26
Exercised			(41	)			15.41
Outstanding at September 30, 2009			1,100			$	19.70				3.68			$	10,029
Exercisable at September 30, 2009			1,098			$	19.66				3.68			$	10,029

Share-based Compensation Expense

Share-based compensation expense, consisting of restricted stock unit and stock option awards, was $12.0 million and $9.8 million for the three-month periods ended September 30, 2009 and 2008, respectively, and $35.1 million and $30.7 million for each of the nine-month periods ended September 30, 2009 and 2008, respectively.

Assuming achievement of target-level financial metrics for performance-based awards granted in December 2008, unrecognized share-based compensation expense totaled $86.1 million for awards outstanding as of September 30, 2009. After adjusting for taxes and noncontrolling interests, approximately $53.8 million of additional share-based compensation is expected to be recognized over a weighted average period of 2.4 years.

12. Industry Segments and International Operations

The Company is a global provider of products and services used during the drilling, completion and production phases of oil and natural gas development activities. The Company’s business is segregated into three operating divisions, M-I SWACO, Smith Oilfield and Distribution, which is the basis upon which the Company reports its results.

The M-I SWACO segment consists of a majority-owned drilling fluid and environmental services joint venture operation. The Smith Oilfield segment is comprised of the Company’s wholly-owned drilling and completion services operations, which includes drill bits, directional drilling services and downhole tools. The Distribution segment consists of the Wilson distribution operations and a majority-owned interest in CE Franklin Ltd., a publicly-traded Canadian distribution company. Finally, general corporate primarily reflects expenses related to corporate personnel, administrative support functions and long-term incentive compensation programs.

The following table presents financial information for each reportable segment:

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2009				2008				2009				2008
Revenues:
M-I SWACO		$	994,634			$	1,364,269			$	3,166,987			$	3,878,452
Smith Oilfield			505,852				724,173				1,708,719				1,891,487
Distribution			378,538				760,869				1,359,086				1,944,528
		$	1,879,024			$	2,849,311			$	6,234,792			$	7,714,467
Operating Income:
M-I SWACO		$	118,317			$	217,016			$	387,150			$	637,108
Smith Oilfield			36,618				188,168				190,005				514,038
Distribution			(20,887	)			61,734				(15,165	)			128,136
General corporate			(32,749	)			(23,837	)			(85,709	)			(67,627	)
		$	101,299			$	443,081			$	476,281			$	1,211,655

The following table summarizes charges associated with employee severance and other cost reduction measures, on a reportable segment basis:

		September 30, 2009
		Three Months				Nine Months
		Ended				Ended
Employee Severance and Other Charges:
M-I SWACO		$	2,796			$	25,080
Smith Oilfield			4,465				25,417
Distribution			443				2,359
General corporate			5,345				7,986
		$	13,049			$	60,842

The following table presents consolidated revenues by region:

		Three Months Ended								Nine Months Ended
		September 30, 2009								September 30,
		2009				2008				2009				2008
Revenues by area:
United States		$	714,063			$	1,335,158			$	2,576,138			$	3,493,797
Canada			145,175				242,231				471,071				623,109
North America			859,238				1,577,389				3,047,209				4,116,906
Latin America			232,433				260,381				736,039				731,901
Europe/Africa			494,963				696,551				1,545,467				1,939,570
Middle East/Asia			292,390				314,990				906,077				926,090
Non-North America			1,019,786				1,271,922				3,187,583				3,597,561
		$	1,879,024			$	2,849,311			$	6,234,792			$	7,714,467

13. Commitments and Contingencies

Standby Letters of Credit

In the normal course of business with customers, vendors and others, the Company is contingently liable for performance under standby letters of credit and bid, performance and surety bonds. Certain of these outstanding instruments guarantee payment to insurance companies with respect to certain liability coverages of the Company’s insurance captive. Excluding the impact of these instruments, for which $20.2 million of related liabilities are reflected in the accompanying consolidated condensed balance sheet, the Company was contingently liable for $255.2 million of standby letters of credit and bid, performance and surety bonds at September 30, 2009. Management does not expect any material amounts to be drawn on these instruments.

Insurance

The Company maintains insurance coverage for various aspects of its business and operations. The Company has elected to retain a portion of losses that occur through the use of deductibles and retentions under its insurance programs. Amounts in excess of the self-insured retention levels are fully insured to limits believed appropriate for the Company’s operations. Self-insurance accruals are based on claims filed and an estimate for claims incurred but not reported. While management believes that amounts accrued in the accompanying consolidated condensed financial statements are adequate for expected liabilities arising from the Company’s portion of losses, estimates of these liabilities may change as circumstances develop.

Contingent Commitments

The Company has certain contractual arrangements that would require it to make payments if certain circumstances occur. These commitments include contingent consideration to be paid in connection with acquisitions and put/call arrangements on certain joint venture interests, which would require the Company to make payments to acquire certain assets or ownership interests.

Litigation

The Company is a defendant in various legal proceedings arising in the ordinary course of business. In the opinion of management, these matters will not have a material adverse effect on the Company’s consolidated financial position, results of operations or cash flows.

Environmental

The Company routinely establishes and reviews the adequacy of reserves for estimated future environmental clean-up costs for properties currently or previously operated by the Company. In the opinion of management, these matters will not have a material adverse effect on the Company’s consolidated financial position, results of operations or cash flows.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following “Management’s Discussion and Analysis of Financial Condition and Results of Operations” is provided to assist readers in understanding the Company’s financial performance during the periods presented and significant trends which may impact the future performance of the Company. This discussion should be read in conjunction with the consolidated condensed financial statements of the Company and the related notes thereto included elsewhere in this Form 10-Q, the Company’s 2008 Annual Report on Form 10-K and other current filings with the Commission.

Company Products and Operations

The Company is a leading global provider of premium products and services used during the drilling, completion and production phases of oil and natural gas development activities. In August 2008, we broadened our capabilities in key drilling and completion-related product technologies with the acquisition of W-H Energy Services, Inc. (“W-H”). We provide a comprehensive line of technologically-advanced products and engineering services, including drilling and completion fluid systems, solids-control and separation equipment, waste-management services, three-cone and diamond drill bits, borehole enlargement services, tubulars, directional systems, measurement-while-drilling and logging-while-drilling services, coiled tubing, cased-hole wireline and other complementary downhole tools and services.  The Company also offers supply-chain management solutions through an extensive North American branch network providing pipe, valves and fittings as well as mill, safety and other maintenance products.

The Company’s operations are driven principally by the level of exploration and production (“E&P”) spending in major energy-producing regions around the world and the depth and complexity of these projects. Although E&P spending is significantly influenced by the market price of oil and natural gas, it may also be affected by supply and demand fundamentals, finding and development costs, decline and depletion rates, political actions and uncertainties, environmental concerns, the financial condition of independent E&P companies and the overall level of global economic growth and activity. In addition, approximately five percent of the Company’s consolidated revenues relate to the downstream energy sector, including petrochemical plants and refineries, whose spending is largely impacted by the general condition of the U.S. economy.

Capital investment by energy companies is largely divided into two markets, which vary greatly in terms of primary business drivers and associated volatility levels. North American drilling activity is primarily influenced by natural gas fundamentals, with two-thirds of the current rig count focused on natural gas finding and development activities. Conversely, drilling in areas outside of North America is more dependent on crude oil fundamentals, which influence more than three quarters of the current international drilling activity. Historically, business in markets outside of North America have proved to be less volatile as the high cost E&P programs in these regions are generally undertaken by major oil companies, consortiums and national oil companies as part of a longer-term strategic development plan. Although 49 percent of the Company’s consolidated revenues were generated in North America during the first nine months of 2009, Smith’s profitability was influenced by business levels in markets outside of North America. The Distribution segment, which accounts for approximately one-fifth of consolidated revenues and primarily supports a North American customer base, serves to distort the geographic revenue mix of the Company’s oilfield operations. Excluding the impact of the Distribution segment, approximately two-thirds of the Company’s revenues were generated in markets outside of North America during the first nine months of 2009.

Business Outlook

The Company’s current year results have and will continue to be influenced by a material reduction in average worldwide drilling activity attributable to the significant slowdown experienced in the global economy. We believe the impact of lower activity levels will be partially offset by the large proportion of our oilfield business based in markets outside North America, areas that tend to be more stable from an oil and gas investment standpoint, and the various cost reduction measures undertaken by management to right-size global operations. The majority of the rig count decline from the prior year has been experienced in the United States where drilling activity is approximately 50 percent below the average level reported in 2008. The decrease in U.S. drilling activity is primarily attributable to the lower number of land-based and shallow-depth offshore programs, which are generally more sensitive to commodity prices. Customer spending in most international and deepwater drilling markets, which are primarily driven by oil-directed activities, have been impacted to a lesser extent.

Near-term drilling activity will largely be influenced by natural gas fundamentals in the U.S. market and oil-targeted drilling projects outside of North America.  Drilling activity is expected, at most, to increase moderately throughout the remainder of the year, still influenced by low global energy demand and record U.S. natural gas storage levels.  Although continued deterioration in the global economic environment could lead to lower exploration and production spending, further reducing demand for the Company’s products and services and adversely impacting future results, the long-term outlook for the energy sector is favorable due to supply and demand fundamentals.

Forward-Looking Statements

This document contains forward-looking statements within the meaning of the Section 21E of the Securities Exchange Act of 1934, as amended, concerning, among other things, our outlook, financial projections and business strategies, all of which are subject to risks, uncertainties and assumptions. These forward-looking statements are identified by their use of terms such as “anticipate,” “believe,” “could,” “estimate,” “expect,” “project,” “should” and similar terms. These statements are based on certain assumptions and analyses that we believe are appropriate under the circumstances. Such statements are subject to, among other things, overall demand for and pricing of the Company’s products and services, general economic and business conditions, the level of oil and natural gas exploration and development activities, global economic growth and activity, political stability of oil-producing countries, finding and development costs of operations, decline and depletion rates for oil and natural gas wells, seasonal weather conditions, compliance with domestic and international regulations in the markets we serve, industry conditions and changes in laws or regulations and other risk factors that are discussed beginning on page 27 of this Form 10-Q, in the Company’s Form 10-K for the fiscal year ended December 31, 2008, and other documents filed with the Commission, many of which are beyond the control of the Company. Should one or more of these risks or uncertainties materialize, or should the assumptions prove incorrect, actual results may differ materially from those expected, estimated or projected. Management believes these forward-looking statements are reasonable. However, you should not place undue reliance on these forward-looking statements, which are based only on our current expectations. Forward-looking statements speak only as of the date they are made, and we undertake no obligation to publicly update or revise any of them in light of new information, future events or otherwise.

Results of Operations

Segment Discussion

Our business is segregated into three operating divisions, M-I SWACO, Smith Oilfield and Distribution, which is the basis upon which we report our results. The M-I SWACO segment consists of a majority-owned drilling fluid and environmental services joint venture operation. The Smith Oilfield segment is comprised of our wholly-owned drilling and completion services operations, which includes drill bits, directional drilling services and downhole tools. The Distribution segment consists of the Wilson distribution operations and a majority-owned interest in CE Franklin, Ltd., a publicly-traded Canadian distribution company. Finally, general corporate primarily reflects expenses related to corporate personnel, administrative support functions and long-term incentive compensation programs.

		Three Months Ended September 30,																Nine Months Ended September 30,
		2009								2008								2009								2008
		Amount				%				Amount				%				Amount				%				Amount				%
Financial Data: (Dollars in thousands)
Revenues:
M-I SWACO		$	994,634				53			$	1,364,269				48			$	3,166,987				51			$	3,878,452				50
Smith Oilfield			505,852				27				724,173				25				1,708,719				27				1,891,487				25
Distribution			378,538				20				760,869				27				1,359,086				22				1,944,528				25
Total		$	1,879,024				100			$	2,849,311				100			$	6,234,792				100			$	7,714,467				100
Geographic Revenues:
United States:
M-I SWACO		$	201,424				11			$	333,043				12			$	665,563				11			$	966,429				12
Smith Oilfield			241,027				13				419,932				15				912,716				14				1,059,438				14
Distribution			271,612				14				582,183				20				997,859				16				1,467,930				19
Total United States			714,063				38				1,335,158				47				2,576,138				41				3,493,797				45
Canada:
M-I SWACO			36,632				2				54,016				2				100,300				2				127,041				2
Smith Oilfield			22,124				1				44,584				2				77,587				1				116,757				1
Distribution			86,419				5				143,631				5				293,184				5				379,311				5
Total Canada			145,175				8				242,231				9				471,071				8				623,109				8
Non-North America:
M-I SWACO			756,578				40				977,210				34				2,401,124				38				2,784,982				36
Smith Oilfield			242,701				13				259,657				9				718,416				12				715,292				9
Distribution			20,507				1				35,055				1				68,043				1				97,287				2
Total Non-North America			1,019,786				54				1,271,922				44				3,187,583				51				3,597,561				47
Total Revenues		$	1,879,024				100			$	2,849,311				100			$	6,234,792				100			$	7,714,467				100
Operating Income:
M-I SWACO		$	118,317				12			$	217,016				16			$	387,150				12			$	637,108				16
Smith Oilfield			36,618				7				188,168				26				190,005				11				514,038				27
Distribution			(20,887	)			(6	)			61,734				8				(15,165	)			(1	)			128,136				7
General corporate			(32,749	)			*				(23,837	)			*				(85,709	)			*				(67,627	)			*
Total		$	101,299				5			$	443,081				16			$	476,281				8			$	1,211,655				16